IASB Conceptual Framework for Financial Reporting - Essay Example

Financial Reporting and Analysis and Financial Reporting and Analysis Introduction The conceptual framework has come under sharp criticism from observers for not meeting its functional purposes, primarily that of providing a foundation for guiding standard-setting and addressing accounting controversies (Pike and Chui, 2012, p.77). The IASB’s conceptual framework provides the basic foundation on which accounting standards are drawn. For that reason, any accounting conceptual framework, if properly adhered to, ought to reflect lists of qualitative characteristics that make sure financial reporting is provided to users with sufficient information for decision making (Pike and Chui, 2012, p.77). The statement of Financial Accounting Concepts (SFAC) highlights five main qualitative elements of accounting information: understandability, relevance, compatibility, and consistency. The conceptual framework was developed with the sole purpose of providing the pillar for principle-based accounting standards. In spite of these objectives, the Securities and Exchange Commission (SEC) has found fault on the accounting standards setting board for becoming overly rules-based, which opens an avenue for the organization of transactions in the firm’s favor. In addition, accounting experts argue that the shift towards rules-based standards is as a result of insufficiencies in the accounting conceptual foundation (Pike and Chui, 2012, p.77). Nobes asserts that the urgent need for rule-oriented accounting principles is a direct consequence of the FASB attempting to push for a fit between accounting standards and a conceptual framework that is under-developed (Pike and Chui, 2012). The thirst for a strong conceptual framework is not only needed for the establishment of principle-oriented accounting standards, but also for the creation of international accounting rules (Kamininski and Carpenter, 2011, p.17). Most developed economies have recognized that there is need and benefits for coming up with an International Financial Reporting Standards. The IASB’s conceptual framework falls short of guidelines for setting standards (Pike and Chui, 2012, p.80). The IASB’s Conceptual Framework The IASB’s conceptual framework for the preparation of financial statements is a brief and single document containing only 110 paragraphs. Drafted in 1989, the document’s contents express a firm affinity with the FASB’s previous works, though there are some underlying differences in details. This is a legacy of the ferocious and unaddressed debates that took place, especially in the 1970s, a time when the rule-setters labored ineffectively to arrive at an answer to the inflation accounting challenges that would be welcomed by both users and preparers of accounts (Whittington, 2008, p.141). Another legacy is that both frameworks stressed on the decision values, especially to investors in capital markets, as the main focus of general purpose financial reports (Whittington, 2008, p.141). This was considered as a bold step at that period of time, hence shaking the conservative view that accounting is mainly for legal and stewardship purposes, with decision usefulness as a beneficial probable extra benefit (Zaharia, 2009, p.1). Observers argue that this sudden shift of attention may be carried too far by a revision of the frameworks. Nevertheless, convergence alone is not the sole motivation; improvement is in the same measure, significant. There are two perspectives of improvement: filling internal gaps to attain completeness, and getting rid of internal contradictions to enhance consistency (Whittington, 2008, p.141). Relevance and Reliability The classic qualitative characteristic trade-off between relevance and reliability has been a fundamental segment of the financial instrument controversy. The conceptual framework states that the income is acknowledged in the income statement when an increase in an asset or a decrease of a liability has arisen, which can be evaluated in a reliable way (Bauer and O’Brien, 2014, p.212). This, therefore, is a clear statement that reliability is an asset measurement issue, not an income statement question. It is also clear that fair value gains and losses ought to be acknowledged as income (Bradbury, 2003, p.390). Critics argue that, for many financial instruments, fair value cannot be evaluated with reliability (Bradbury, 2003, p.390). These critics of the framework are also concerned with the implications of fair value on income volatility. Some critics highlight confusion between the impact of volatility and the qualitative features of reliability (Ruhl and Smith, 2013, p.1010). Nonetheless, some scholars hold the view that the underlying issue in accounting for financial instruments is not fair value, but performance evaluation (Bradbury, 2003, p.390). Reporting Entities and Control over the Entities The current business set ups are commonly carried out by entities interlinked by ownership, contact, common managements, joint venture, formalized and informal partnerships (Crook and Bullen, 2005, p.13). Such complex setups raise questions on what forms of entities need to provide financial reports, and how to achieve such inclusions (Van, 2014, p.220). The IASB’s framework describes a reporting enterprise, but fails to choose between these two concepts. In as much as the International Financial Reporting Standards and the US standards both need the preparation of amalgamated financial statements, and offer the guidelines on how to go about it, the IASB’s standards have conceptual inconsistencies and gaps that are hard to address without a sufficient concept of the reporting entity. For instance, there is a gap in handling some special-purpose entities (Crook and Bullen, 2005, p.13). Display and Disclosure The framework briefly describes the reports and discusses the various forms of information that the statements present, as well as how the users may find them valuable in making crucial decisions. However, the framework does not provide guidance on some long-standing controversial concerns like classification within the statement of financial position and applicability, and extent of detail and relevance of sub-totals within the income statement. For instance, the question on whether the operational earnings, net income, and other detailed incomes, need or need not to be displayed, as well as what should or should not be incorporated into them (Crook and Bullen, 2005, p.13). The framework does not discuss the earnings per share or other summary pointers. It fails to discuss a cash flow statement in any detail. It briefly touches on disclosure in notes, supplementary schedules, as well as other means reporting, but cite only a few cases on the kind of information discussed in current practice. Furthermore, the conceptual framework does not offer valuable guidance concerning what information ought to be revealed, the venue of disclosure or how to present it (Crook and Bullen, 2005, p.14). The methodologies of display and disclosure require a considerable focus on the project. Nonetheless, while the concepts of display and disclosure should be resolved in the project, preference should be given to establishing up-to-date, improved, and integrated objectives for financial reports and concepts of qualitative features, aspects and their definitions, acknowledgement, measurement and the reporting entity (Crook and Bullen, 2005, p.12). Measurement The IASB’s conceptual framework regards measurement as the determination of the monetary amounts at which the aspects of financial reports are to be acknowledged and included in the balance sheet and income statement (Barth, 2014, p.334). Measurement is one of the most under-developed segments of the IASB framework. With respect to the monetary unit, the FASB’s framework assumes nominal units of money over the alternative, which is the units of constant general purchasing power that is more relevant, if the inflation rate increases. The IASB framework discusses these options, but does not choose one (Crook and Bullen, 2005, p.12). The idea that measurement issues may not be as contentious today as they were at the time when the frameworks were established, owing to the fact that most industrialized nations are today undergoing little or no inflation. Tally consistent, The IASB framework has a list of measurement features that are used in practical situations. The lists are generally consistent, contain historical costs, gross or net realizable value, as well as the present value of anticipated future cash flows (Crook and Bullen, 2005, p.12). While the conceptual framework indicates that the use of differing measurement attributes is expected to go on, it does not provide a clear guidance on how to choose between the listed measurement features or take into consideration other theoretical possibilities. Put simply, it does not have any fully-fledged measurement concepts. Better modes of measurements require solving both the initial and subsequent measurements. The most complicated issue is which attributes to employ for the subsequent measurement. Subsequent measurement ranges from revaluations and impairment, to depreciation. It gives rise to matters revolving around the categorization of gains or losses in income statements as well as changes in equity (Crook and Bullen, 2005, p.12). A related concern is whether the recognition or de-recognition parameter may be different in accordance with the attributes of measurement. One unresolved idea that re-occurs in many ways in Board debates, on measurement issues, is the unit of account. That is, whether the items need to be grouped at some degree of aggregation, or disaggregated, instead of being measured individually. Different units of account lead to different measures of impairments in case the measurement element translates to historical cost (Crook and Bullen, 2005, p.12). Perhaps, whatever seems to be a single commodity needs to be sub-categorized for accounting purposes. This is because; the unit of account offers unaddressed problems that transcend measurement. For instance, the conceptual framework does not give an answer on whether a wholly executor contract, like a forward purchase, need to be acknowledged as two items, that is, as an asset and a liability, or as a single entity. Various standards programs turn, at least in part, on the unit of account, and no conceptual framework offers a valuable guidance. Various standard programs turn, at least in part, on the unit of account, and no conceptual framework offers a valuable guidance. The long-standing unaddressed debate on which measurement attribute to embrace, especially between historical-price and current-price measures, as well as the unanswered dilemma of unit of account, are most likely to make measurement one of the most challenging part of the project (Crook and Bullen, 2005, p.12). Standards preceding the Framework support the Need for a ‘Living’ Framework The IASB conceptual framework should transform itself to an accounting standard-setter, since other users acquire much experience in applying the concepts and start to reveal its limitations. Historically, the accounting standard-setters have been slow in returning to the framework and making changes in a timely fashion. The hesitation to regularly revisit the framework has led the IASB to challenging areas within the context of a pre-existing framework that is not in line with the present school of thought, hence is considered incomplete. In such cases, accounting standard-setters are faced with the problem of extracting new standards from outdated and incomplete concepts, or being compelled to efficiently coin new concepts within the standards. The former strategy can lead to the development of standards that are not in line with the present conceptual thinking thus leading to sub-optimal standards and the prospect of consequent revision when the framework is later reviewed (McGregor and Street, 2007, p.45). Recognition The focus on the contractual contexts suggests a shift from the conventional basis of exchange, to a contract basis of accounting (Lennard, 2007, p.62). For instance, in the case of a convertible note, which provides the holder the ability to change it into equity at a later date, an exchange perspective would categorize the convertible tool as either all debt or all equity, depending on the possibility of conversion. Within the contract standpoint, the elements of a financial instrument, which are in themselves financial instruments, can be recognized and measured separately. Therefore, a convertible tool can result to the recognition of a debt component, together with an alternative to convert it to equity (Bradbury, 2003, p.390). The process of revenue standards in the IASB framework focuses on the manifestation of crucial events rather than transformations in assets and liabilities. Some individuals hold the view that this approach results to debits that do not meet the description of assets and liabilities being recognized. An obvious limitation of the conceptual framework is that it provides inadequate guidance on contracts that give more than one product or service to the client. As a result, it is not clear when contracts need to be divided into segments, and how much revenue needs to be attributed to every section (Bradbury, 2003, p.390). References Barth, M.E., 2014. Measurement in Financial Reporting: The Need for Concepts.Accounting Horizons, [e-journal] 28, 2, pp. 331-352,Available at: [Accessed 15 January 2015]. Bauer, A., OBrien, P., and Saeed, U., 2014. Reliability Makes Accounting Relevant: A Comment on the IASB Conceptual Framework Project.Accounting In Europe, [e- journal]11, 2, pp. 211-217.Available at: [Accessed 15 January 2015]. Bradbury, M. E., 2003. Implications for the Conceptual Framework Arising From Accounting For Financial Instruments. Abacus, [e-journal] 39, 3, pp. 388-397. Available at: [Accessed 15 January 2015]. Crook, K. and Bullen, G. H., 2005. Revisiting the Concepts: A New Conceptual Framework Project. Financial Accounting Standards Board, [e-journal]. Available at: [Accessed 15 January 2015]. Kaminski, K., and Carpenter, J., 2011. ACCOUNTING CONCEPTUAL FRAMEWORKS: A COMPARISON OF FASB AND IASB APPROACHES.International Journal Of Business, Accounting, & Finance, [e-journal] 5, 1, pp. 16-26.Available at: [Accessed 15 January 2015]. Lennard, A., 2007. Stewardship and the Objectives of Financial Statements: A Comment on IASBs Preliminary Views on an Improved Conceptual Framework for Financial Reporting: The Objective of Financial Reporting and Qualitative Characteristics of Decision-Useful.Accounting In Europe, [e-journal] 4, 1, pp. 51-66, Available at: [Accessed 15 January 2015]. McGregor, W. and Street, D., 2007. IASB and FASB Face Challenges in Pursuit of Joint Conceptual Framework.Journal Of International Financial Management & Accounting, [e-journal] 18, 1, pp. 39-51, Available at: [Accessed 15 January 2015]. Pike, B. and Chui, L., 2012. An evaluation of the FASBs conceptual framework from a users Perspective.Academy Of Accounting And Financial Studies Journal, [e-journal]1, p. 77, Available at: [Accessed 15 January 2015]. Ruhl, J. and Smith, O., 2013. The Accounting Entity, Relevance, and Faithful Representation: Linking Financial Statement Notes to the FASB and IASB Conceptual Frameworks. Issues In Accounting Education, [e-journal] 28, 4, pp. 1009-1029.Available at: [Accessed 15 January 2015]. Van, C., 2014. The Equity Theories and the IASB Conceptual Framework.Accounting In Europe, [e-journal] 11, 2, pp. 219-233.Available at: [Accessed 15 January 2015]. Whittington, G., 2008. Fair Value and the IASB/FASB Conceptual Framework Project: An Alternative View.Abacus, [e-journal] 44, 2, pp. 139-168, Available at: [Accessed 15 January 2015]. Zaharia, M. and Firescu, V., 2009. POSSIBILITIES AND LIMITATIONS OF THE ACCOUNTING POLICIES IN THE REPORTING OF FINANCIAL REPORTING. OAIster, Available at: [Accessed 15 January 2015]. Read More